Definition

The financial accounting term current cost accounting refers to an approach that values assets at their fair market value rather than historical cost. In practice, current costs can be determined in a number of ways, including applying a specific price index to the book value of the asset.

Explanation

Recording and reporting transactions at historical costs is one of the long-standing principles of the accounting profession. However, this approach is not without its critics, especially when an economy experiences double-digit inflation or process improvements result in a relatively rapid decrease in prices. A number of alternative approaches to the reporting of financial statements have been proposed, including current cost accounting.

Also known as the specific price-level method, current dollar accounting uses a specific index of prices to reflect the current value of certain assets and liabilities held by a company. Proponents of the approach believe this method allows for more accurate reporting of the company's financial position. It also brings the Financial Accounting Standards Board's Generally Accepted Accounting Principles into better alignment with that of the International Accounting Standards Committee.

The objective of the current cost accounting method is to report the financial assets and liabilities of a company at their fair market value rather than historical cost. For example, the book value of the vehicles owned by a company may be $15,000,000; however, the fair market value of the vehicles might be closer to $8,000,000. This approach is similar to those accounting requirements that apply to certain classes of investments owned by companies such as marketable securities held for trading purposes.

In practice, it would be impracticable to determine the fair market value of all the assets and liabilities held by a corporation. Critics of the approach believe investor-analysts would have trouble determining which values are based on historical cost versus their replacement cost. In addition, when assets and liabilities are recorded on the balance sheet at their fair market values, any change in value typically flows to the income statement. Once again, critics of the approach believe this will lead to distortions in the perceived profitability of a company.